An old enemy rears its head

Monday, May 26, 2008

Even as America’s economy teeters on the brink of recession and many European economies are slowing, central bankers in rich countries fear rising inflation. Yet the risks they face are smaller than those in emerging economies, where inflation has risen far more over the past year to its highest for nine years. There are also an alarming number of similarities between developing economies today and developed economies in the early 1970s, when the Great Inflation took off. Are the young upstarts heading for trouble?

China’s official rate of consumer-price inflation is at a 12-year high of 8.5%, up from 3% a year ago (see chart 1). Russia’s has leapt from 8% to over 14%. Most Gulf oil producers also have double-digit rates. India’s wholesale-price inflation rate (the Reserve Bank’s preferred measure) is 7.8%, a four-year high. Indonesian inflation, already 9%, is likely to reach 12% next month, when the government is expected to raise the price of subsidised fuel by 25-30%.

Inflation in Latin America remains low relative to its ignominious past. Even so, Brazil’s rate has risen to 5% from less than 3% early last year. Chile’s has leapt from 2.5% to 8.3%. Most alarming are Venezuela, where the rate is 29.3%, and Argentina. Officially, Argentina’s inflation rate is 8.9%, but few economists believe the numbers. Morgan Stanley estimates that the true figure is 23%, up from 14.3% last year.

Indeed, official figures understate inflationary pressures in many emerging economies. Widespread government subsidies and price controls are one reason, and price indices are often skewed by a lack of data or government cheating. China’s true inflation rate may be higher because the consumer-price index does not properly cover private services. Delays in data collection in India can mean big revisions to inflation: the final number for early March was almost two percentage points higher than the original. The latest wholesale-price inflation rate might therefore be pushed up to 9-10%. If measured correctly, five of the ten biggest emerging economies could have inflation rates of 10% or more by mid-summer. Two-thirds of the world’s population may then be struggling with double-digit inflation.